End of Oil Speculation?

Jul 8, 2009

In this issue:
» End of oil speculation
» Ratan Tata to head Air India advisory board
» Short term interest rates likely to fall, says Deepak Parekh
» The rising clout of India
» ...and more!!
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Even the world's preeminent capitalist nation needs to intervene in the functioning of its markets from time to time. As per the New York Times, the US Commodity Futures Trading Commission (CFTC) plans to limit the volume of trading of energy futures by speculators. In fact, it has already put in place greater disclosure norms to track transactions conducted outside the commodity exchanges.

Given the extreme volatility that the crude oil market has been through over the last 2 years, it is not hard to understand the timing. The question remains whether this volatility was merely a reflection of the surrounding economic chaos or due to rampant speculation of 'financial investors' looking for a quick buck. It may be noted that energy futures are also traded by businesses like oil companies and airlines.

It may be noted that the US government already has limits on commodities like corn and wheat. Given the Obama administration's broader tilt toward greater government supervision, we believe the CFTC will actually go ahead with its plans for the crude oil and natural gas markets - and thereby restore some sanity to the proceedings.

 Chart of the day
The total world market capitalisation currently stands at nearly US$ 40 trillion (from US$ 32 trillion at the end of 2008, and US$ 60 trillion at the end of 2007), with the US forming the biggest part of it at nearly US$ 12 trillion. Within the emerging markets, China leads the race with market cap in excess of US$ 3 trillion now (around 7.5% of world market cap) thereby continuing to maintain a significant lead over its peers like India and Brazil. Now, whether Chinese stocks are again in a bubble territory is another question!

Source: World Federation of Exchanges

The intentions are honest but the task ahead is quite formidable to say the least. We are referring to aviation minister Praful Patel's decision of taking the bull by the horns i.e. making an all out effort to nurse back Air India, his ministry's blue eyed boy to full health. Talks are doing the rounds that the minister is looking to set up an international advisory board that will have some very well known names. As per a leading daily, Ratan Tata has already been approached to head the board. Mr. Patel is also seeking to revamp Air India's top management, all in the hope that these large scale changes make Air India self sustaining.

However, Mr. Patel could do well to temper his expectations as the sector he has been confronted with does not enjoy a very good reputation in terms of creating value for its shareholders. As the Oracle of Omaha Buffett says, Karl Marx couldn't have done as much damage to capitalists as the inventor of the airplane has done. Not many have struck gold by not listening to Mr. Buffett, let's see if Mr. Patel succeeds where others have failed.

India appears to be flouting its might in the international arena, slowly but surely. The latest summit between the G8 (developed nations) and the G5 (emerging countries) in Italy is a case in point. The focus of the summit will largely be the global financial crisis, but other issues are also expected to be discussed namely climate change and food security. While China is very keen to discuss the status of the dollar as the world's reserve currency, India has decided to keep an open mind with a view to discuss all ideas. What's more, the G5 (India, China, Brazil, South Africa and Mexico) being part of this forum can be attributed to Prime Minister Manmohan Singh, who was clear that a declaration drafted without discussions with the G5 countries made no sense. This itself highlights India's rising clout. Meanwhile, the summit is also being seen as a platform for Barack Obama and Manmohan Singh to meet and advance talks between the two nations. It remains to be seen whether this diplomatic overdrive will yield any concrete results.

It is clear from the Union budget 2009-2010, that India's borrowing programme will gather further pace. In fact, the government plans to borrow almost Rs 4 trillion from the markets in FY10, a jump of 50% over last year. Normally, the immediate impact of a greater demand for credit is higher interest rates.

However that is unlikely to happen in the short term at least, as per one of the most respected voices in finance. A leading business daily quotes Mr. Deepak Parekh, the chairman of HDFC, "There is sufficient liquidity so far in the market. I don't think it (rate) is going to harden that much at least in the next three to four months."

In fact, Mr. Parekh believes that short term interest rates are actually going to fall as the supply of credit is way above the demand for it. "I expect the rates to go down by at least 50 basis points (0.5%) over next six months", he adds.

The long term yields are another matter though. The deficit figures are likely to keep them moving upwards. However, we should also pay attention to the 'second-order effect' as Charles Munger, Vice Chairman of Berkshire Hathaway, would say.

The 'second-order effect' in this case would be what economists term as the 'crowding out effect' - the government soaking up resources (here credit) that the private sector needs. Lower disbursal of credit to the private sector would nullify the greater disbursal to the government.

For all the feel - good budget announcements on the personal tax front, the Finance Minster has bowled a googly. We are talking about the fringe benefit tax (FBT). FBT, which was abolished in this budget, is the tax on perquisites like rent-free accommodation, free electricity & water, free meals, cars, chauffeurs, credit cards and club memberships. Till this year, the employer, who provided these facilities, had to foot the tax bill. A closer reading of the fine print of the latest budget suggests that the employees who receive these facilities will now foot the tax bill.

It may be noted that this is not new. Up to FY06, it was the employee who paid the tax for perquisites. All we can say is, what the taxman giveth, he eventually taketh away!

Strong selling activity during the final hour of trade led the Indian indices to end the day well below yesterday's closing levels. The BSE-Sensex Index ended lower by about 410 points (2.9%), while the NSE-Nifty Index recorded losses of about 130 points (3%). As for global markets, most of Asia ended the day on a weak note. The European markets were trading weak at the time of writing as well.

 Today's investing mantra
"The primary test of managerial economic performance is the achievement of a high earnings rate on equity capital employed (without undue leverage, accounting gimmickry, etc.) and not the achievement of consistent gains in earnings per share." - Warren Buffett

P.S.: With an aim to serve our audience better, we have initiated a new series directed to women investors. The series is titled - Women's Weekly - and will be a conduit through which we will provide our views and recommendations on how should women go about managing their finances and invest for a better financial future. Click here to read the fourth article of this series.

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6 Responses to "End of Oil Speculation?"


Jul 9, 2009

I strongly feel that alleviation of essential commodities from the Commodity Trading Exchange would be a great initiative to control real inflation % which is expected to crop in future. The rates of these commodities should be strictly determined only by the govt to ensure there is a balance between the price a common man pays and an Indian farmer earns.


Jayant Lakhkar

Jul 9, 2009

Regarding market capitalisation, your chart seems to indicate 'Bubble' terriroty not for China, but for India! The total market capitalisations of USA, China and Brazil are roughly equivalent to their 1-year GDP's. However, India's market capitalisation at approx. $2.5 trillion appears to be 2.5 times its 1-year GDP. Your comments are welcome.



Jul 8, 2009

well writtrn


A. Kelkar

Jul 8, 2009

"India appears to be flouting its might in the international arena, slowly but surely"

My guess is you probably mean "flaunting", not flouting.



Jul 8, 2009

I like the concept, specially the Long Term, Short Term categorization is hugely insightul. you can arrange the content based on that categorization which will help.



Jul 8, 2009

Whatever happened to the Swiss bank money promised during elections. A lot of our troubles will end if this channel was tapped.

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